Company Perspectives:

HBO's aim is to continue to provide subscribers with the highest quality, award-winning new entertainment specials, original movies, comedy, documentaries, series, music specials, family shows, sports specials, and championship boxing available anywhere on television.

Company History:

Home Box Office Inc. (HBO) is the largest pay-TV channel in the United States, with a subscriber base of about 33 million and earnings of approximately $400 million. As a subsidiary of Time Warner Entertainment Co., L.P., 63 percent of which is owned by Time Warner Inc., HBO's programming includes sports events, comedy offerings, Hollywood films, and self-produced films.

1970s Formation

Home Box Office was founded by Time Inc. in 1972 to offer cable television service. As a subsidiary of Time, HBO bought the rights to recent films and transmitted them to local systems via satellite and microwave relays. Its service was distributed by the local cable operators, typically costing subscribers $6 a month, of which HBO received $3.50. HBO management initially regarded the company as an editorial marketer, selling its programming the way Time sold magazines.

HBO grew slowly in its first years, as the nascent cable industry struggled to get off the ground. Cable was hampered by market fragmentation, lack of infrastructure, and tough federal regulations, some of them sponsored by the major television networks, which feared that cable could eventually steal much of their audience and revenue.

During the mid-1970s the cable industry laid the groundwork for rapid growth: it expanded its infrastructure through such populous areas as New York City and the suburbs of Boston, won a series of court victories that removed many federal restrictions, and won rate increases from local governments. Pay-TV customers, those buying additional cable services such as HBO, grew from 50,000 in 1974 to about l.5 million in 1978. HBO won greater latitude in pursuing customers in 1977 when a federal ruling lifted restrictions on the choice of movies and sports available on pay-TV. HBO quickly became one of the primary engines driving the growth of the cable industry. Cable systems operators hooked up thousands of people for basic services who were primarily interested in getting HBO.

HBO made its first profit in 1977. It lost tens of thousands of customers in 1978, however, as a result of a move by its chief rival, Showtime, which was challenging HBO head-on for the cable film audience. During this time, Showtime's parent, Viacom, had struck a deal with Teleprompter, the largest cable systems operator in the United States, which resulted in Teleprompter's customers receiving Showtime instead of HBO.

Nevertheless, HBO worked diligently on its programming, lining up enough films to make it the premiere pay-TV outlet for commercial films. It also began its On Location comedy series and The Young Comedians Show, one of the first television forums for such comedians as Robin Williams and Paul Ruebens (Pee-Wee Herman).

In 1978 Time spent $145 million to buy American Television & Communications Corp., then the second-largest cable systems operator in the United States, hoping a large number of its 675,000 customers would subscribe to HBO. HBO continued to expand, and as it did it was able to pay higher prices per film than its competitors, winning better films and more subscribers. In fact, its financial resources allowed it to purchase a block of 40 MGM/United Artists films all at once, paying about $35 million. HBO also began investing in the preproduction financing of movies in exchange for exclusive pay-TV rights. This prebuying was risky; HBO was paying in advance for the rights to movies that might prove unpopular. Moreover, the practice angered movie studios, which felt that HBO was intruding on their turf, and some of them began looking for a way into the cable TV industry. Some studios warned that HBO would drive many film studios out of business and control the film industry. Though such fears eventually proved unfounded, they demonstrated the depth of concern attached to a new medium whose ultimate potential remained a mystery.

In 1980 HBO introduced a second channel called Cinemax. This channel was priced lower than HBO and was geared to compete with Viacom's Showtime. Viacom would later charge that Cinemax was priced below cost as a way to drive Showtime out of business.

The Competitive 1980s

By 1982 HBO had 9.8 million subscribers, nearly 50 percent of all pay-TV subscribers, and earned $100 million on sales of $440 million. In fact, HBO was about three times as big as its nearest competitor, Showtime. This size advantage contributed to HBO's bottom line. For example, it paid about $1.4 million for the hit film Raging Bull, or about 15 cents per subscriber. Although Showtime paid less for the film, $l million, that figure worked out to more than 30 cents per subscriber. When Star Wars went on the block in 1982, HBO matched a Showtime offer of $l per subscriber, but insisted on price concessions on less popular films made by Twentieth-Century Fox.

At the end of 1982 HBO worked out a deal with Columbia Pictures and CBS to create Tri-Star Pictures, the first major new U.S. film studio in 40 years. Each company was to contribute up to $100 million to the venture, and HBO received the pay-TV rights. By 1983 HBO, with 13.4 million subscribers, was producing made-for-television movies and working on its own original comedy programs. While some industry observers wondered if HBO would become the fourth major non-cable television network, the growth of the cable industry as a whole slowed dramatically beginning in 1984. Part of the cause was lingering infrastructure problems. New cable systems had not yet been built in such major markets as Chicago, Philadelphia, Detroit, and Baltimore. Other causes for the cable slowdown were rising cable rates at a time when more and more consumers owned video cassette recorders and could rent their own films. Finally, HBO had also become complacent in negotiating contracts, while competitors moved quickly. As a result, HBO's share of the pay-TV market slipped from 50.4 percent in June 1983 to 48.1 percent in June 1984, while its profit margins began eroding.

Parent company Time Inc. responded by forcing out HBO chairman Frank J. Biondi, replacing him with Michael J. Fuchs. Fuchs cut HBO's staff by 125 employees and embarked on a $20 million advertising campaign, overseen by the New York firm Batten Barton Durstine & Osborn, to polish HBO's image. He also renegotiated contracts with Columbia Pictures and Tri-Star for the broadcasting of films and cut expense accounts and other costs.

As a result of the contract renegotiations, HBO gave up exclusive rights to many films. Rival Showtime, meanwhile, was trumpeting its new policy of showing films exclusively or not showing them at all. Previously the two firms had both showed some films exclusively, but shared many others. As a result of its new policy, Showtime won exclusive rights to several popular films. HBO management was angered, feeling that they had already learned that exclusive rights cost more than they were worth and that Showtime's move had increased the prices of acquiring even limited rights. Showtime's strategy also pushed HBO into negotiating for exclusive rights for more films than it otherwise would have done. Some industry analysts felt that the price of buying films for pay-TV should be decreasing, since the popularity of video cassette recorders had lowered their worth.

Despite the cable television slump, HBO had 14.6 million subscribers in 1985 and sales of about $800 million. Early the following year it began to scramble the signals it used to broadcast its programming to cable-system operators. Until then anyone with a satellite dish could tune in HBO for free.

Continuing to stock its film library, HBO bought the rights to 125 Warner Brothers films for five years for $600 million in 1986, also buying the rights to 72 films by MGM/UA Entertainment for four years. The following year, it bought the rights to 85 Paramount Pictures films over a five-year period.

In 1989 Viacom filed a $2.4 billion antitrust lawsuit against HBO. Viacom's Showtime subsidiary alleged that HBO was trying to put it out of business by intimidating cable systems that carried Showtime, as well as by trying to corner the market on Hollywood films to prevent rivals from showing any. The suit attracted wide attention, generating negative publicity for the cable industry at a time when the U.S. Congress was considering the re-regulation of cable. Part of the reason the anti-trust charges attracted so much attention was because they were being delivered by former top HBO employees; Frank J. Biondi had gone on to become Viacom's president and chief executive officer, while Showtime's president, Winston H. Cox, was also a former HBO executive. The lawsuit would not be settled until the early 1990s.

In the meantime, hoping to branch out, HBO announced plans for a 24-hour all-comedy channel. Stand-up comedy was experiencing a popularity boom in the United States, and polls of cable subscribers showed enthusiasm for the idea. HBO's The Comedy Channel began with six million subscribers in November 1989, though industry analysts felt it would need 20 million to attract enough advertising to survive. Some critics offered harsh appraisals of The Comedy Channel's fare, citing in particular the way HBO strung together excerpts from stand-up routines, sitcoms, and movie clips rather than longer, more substantial comedic pieces, and many cable operators were resistant to offering Comedy Channel at all. HBO moved quickly to entice them into buying ownership stakes as incentive to get the new channel wider availability. In April 1991 Comedy Channel suffered another setback when Viacom's HA! began broadcasting old sitcoms in their entirety, eschewing Comedy Channel's practice of showing excerpts. Most industry analysts believed that only one of the channels would survive. Many cable operators did not sign up for either, waiting to see which would get more support.

HBO invested heavily in advertising to win subscribers to its new and existing services, spending about $38 million in 1990 alone. However, both Comedy Channel and HA! were struggling, and in a surprise move, HBO and Viacom agreed to merge them into Comedy Central late in 1990. This shared channel, Comedy Central, would eventually go on to experience great success, producing several popular original comedy shows of its own.

HBO's legal challenges weren't over, however. During this time, Broadcast Music Incorporated (BMI), a performance-rights society, sued HBO over the rates it was paying for the use of BMI-protected music. The suit was settled in January 1991 when HBO agreed to raise the rate it paid for its blanket license to 15 cents per subscriber per year, up from 12 cents.

One of the most common complaints subscribers had about pay-TV channels was that they all tended to show the same films at the same time; once a person had seen the film, there was nothing on TV to watch. As the cancellation rate for HBO was about four percent a month, or about 850,000 of its 17 million subscribers per year, this lack of options was believed to be an important factor. To hang on to subscribers, HBO announced in 1991 that it would convert HBO and Cinemax to multichannel services. Each network would broadcast different programming simultaneously on three different channels. Many cable systems had no extra channels to offer, but HBO management hoped new technologies would expand the number of channels available. Because the company had to wait for fiber-optic lines to be installed and data-compression techniques to become more widely available, however, some industry observers estimated it would be three to five years before these multiple channels were widely available.

In August 1992 the Viacom suit was finally settled out of court, having cost both sides tens of millions of dollars in legal fees. Time Warner, HBO's parent company, agreed to pay Viacom $75 million and to buy a Viacom cable system in Milwaukee for $95 million, $10 million more than it was worth at the time according to the Wall Street Journal. Time Warner agreed to more widely distribute Showtime and The Movie Channel on Time Warner's cable systems, the second-largest in the United States. The two sides also agreed to a joint marketing campaign to try and revive the image of cable, which was again in a slump; HBO had lost about 300,000 subscribers in 1991, leaving it with a total of 17.3 million.

In the late 1980s and early 1990s many analysts predicted the end of pay TV. Competition from advertiser-supported basic cable channels and pay-per-view options threatened an HBO already weakened by the popularity of home video rentals. However, HBO fought back on several fronts. CEO Michael Fuchs began an aggressive marketing campaign and continued to expand the availability of multiplexing around the country. He expanded the company's ventures outside its traditional enterprises, taking on sports licensing, such as the licensing of the World Cup logo. In addition, HBO moved into foreign pay TV markets and began selling original HBO production for foreign theatrical and home video distribution.

An Early 1990s Turnaround

Several of these strategies soon showed results for HBO. The company's foreign pay TV ventures proved highly successful and helped maintain profits. Foreign distributions were booming by the mid-1990s. Outside ventures, such as the sports licensing, grew quickly, accounting for 28 percent of revenues in 1993, up from one percent in 1982. On the home front, aggressive marketing and multiplexing were apparently behind the mild boost in subscribership in 1992. Membership continued to rise; in 1993 the subscriber base increased by one million to 24.7 million.

Competition for exclusive rights to Hollywood films subsided in the early 1990s, bringing down licensing costs by 20 percent. The end of the bidding wars helped raise HBO's profits: in 1992 operating profits were up by ten percent, to $215 million, and they rose the next year as well, to $230 million. The tides had begun to turn for HBO, which in 1993 provided eight percent of Time Warner's pretax profit.

Having rebounded somewhat from its slump in the late 1980s, HBO needed to maintain its momentum. In 1994 Jolie Solomon of Newsweek assessed the situation, noting that CEO Fuchs "must stay ahead of the multimedia revolution, especially the technology that will create home-video jukeboxes. His strategy is to make HBO a powerful brand name, signaling high quality on the cutting edge." To that end, Fuchs upped the company's advertising and focused increasing amounts of HBO's time and budget on original productions, including movies, specials, and series. Because HBO did not need to attract and keep advertisers, its could take on subjects in its original productions that networks wouldn't touch, such as "Barbarians at the Gate," a 1993 movie critical of R.J.R. Nabisco.

Fuchs's competitive, aggressive, and some said antagonistic management style, however, was not popular among all board members and shareholders, and he was replaced as CEO in 1995 by Jeffrey L. Bewkes. Having served HBO for years as an executive, Bewkes moved into the top position smoothly. With a more cooperative managerial style, especially with fellow subsidiary Warner Brothers, Bewkes continued Fuchs general strategy of creating original programming and promoting HBO as high-quality brand. In fact, in 1997 he spent an impressive $25 million to promote that brand, a figure that did not include the advertising budget for specific programs.

The company's efforts at original programming gained momentum in the late 1990s. In 1997 HBO received 90 nominations for Emmys, marking the first time a cable network had garnered more nominations than any broadcast network. Moreover, HBO was only narrowly beaten by NBC for the most Emmy awards won. Praise from critics was on the rise also, particularly for the channel's original series, such as the comedy The Larry Sanders Show and the drama Oz.

By the late 1990s, HBO had held its own against those threats to pay-TV that other top competitors were still struggling against. The Starz! and Showtime movie networks were both trailing HBO with fewer than half their subscribers. However, the satellite market had matured by 1998, and HBO could no longer rely on that market boom for increasing its subscriber base. Thus, although HBO had long outlasted predictions of its demise, it still faced many challenges at it approached a new century.

Further Reading:

Berger, Warren, "At 25, Excellence and Big Budgets for a Late Bloomer," The New York Times, November 9, 1997, pp. AR23-AR24.